Trade and

the Environment

A GDAE Teaching Module

on Social and Environmental
Issues in Economics
 TRADE AND THE ENVIRONMENT

1. ENVIRONMENTAL IMPACTS OF TRADE

World trade expansion has raised the issue of the relationship between trade and
the environment. Is trade good or bad for the environment? The answer is not obvious.
The production of goods that are imported and exported, like other production, will often
have environmental effects. But will these effects increase or decrease with expanded
trade? Will they affect the exporting nation, the importing nation, or the world as a
whole? And whose responsibility is it to respond to environmental problems associated
with trade? Questions such as these have received increasing attention in recent years.

International attention was first focused on these issues in 1991, when the
Mexican government challenged a United States law banning imports of tuna from
Mexico. The U.S. Marine Mammal Protection Act prohibited tuna fishing methods that
killed large numbers of dolphins, and banned tuna imports from countries that used such
fishing methods. The Mexican government argued that this U.S. law was in violation of
the rules of the General Agreement on Tariffs and Trade (GATT).

According to the free trade principles that provided the basis for GATT and for its
successor, the World Trade Organization (WTO), countries cannot restrict imports
except in very limited cases such as protection of the health and safety of their own
citizens. A GATT dispute panel ruled that the U.S. could not use domestic legislation to
protect dolphins outside its own territorial limits.

Although Mexico did not press for enforcement of this decision, the tuna/dolphin
decision opened a major controversy over issues of trade and environment. In a similar
case in 1999, the World Trade Organization ruled that the U.S. could not prohibit shrimp
imports from countries using fishing methods that killed endangered sea turtles.

The implications of this and the earlier tuna/dolphin decision could affect many other
international environmental issues, such as forest protection, ozone depletion, hazardous
wastes, and global climate change. All these issues are linked to international trade.

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 To address these questions, we need to examine the theory and practice of
international trade. Most economists believe that expanded trade is generally beneficial,
promoting increased efficiency and greater wealth among trading nations. But what if
expanded trade causes environmental damage?

At the national level, the standard economic policy response to environmental

impacts is to implement policies that internalize externalities. At the international level,
however, the picture is more confused. The burden of environmental externalities
associated with trade may be borne by importers, exporters, or by others not directly
involved in the production or consumption of traded goods. The authority to formulate
and enforce environmental policies usually exists only at the national level. This can
create significant problems when environmental impacts are transnational, since most
international trade agreements do not include any provisions for environmental
protection.

Comparative Advantage and Environmental Externalities

We can use economic theory to analyze some of the gains and losses associated
with environmental effects of trade. The theory of comparative advantage tells us that
both trading partners gain from trade through specializing in the goods that they can
produce most efficiently. But this basic theory does not consider environmental
externalities that may be associated with the production or consumption of goods.
Consider Figure 1, which shows the welfare effects of an imported good, using
automobiles as an example.

The supply curve S takes into account private costs, whereas S’ shows social costs
including both private costs and externalities. P* is the domestic price in the absence of
trade, whereas Pw is the world price, which will also be the domestic price under
conditions of free trade.1 Q* is the quantity produced domestically with no trade, while
with free trade Q1 is produced domestically and (Q2 - Q1) is imported, for a total domestic
consumption of Q2.

How does trade affect domestic economic welfare? Domestic producers of

automobiles lose the shaded area A, since they now sell fewer cars at a lower price.
Domestic consumers gain areas A+B, since they can now buy more cars at the same
lower price. The net gain from trade is therefore (A+B) - A = B.

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Figure 1. Gains and Losses from Importing Automobiles

But this leaves out any environmental externalities associated with trade. If the
production of automobiles causes environmental damage, then by lowering production
the country gains cross-hatched area C in reduced environmental costs -- costs which are
shifted to countries producing cars for export. On the other hand, if environmental
damage is associated with the consumption and use of automobiles, lowering the true
marginal benefits from consumption, then trade increases the environmental costs of
consumption by the shaded area D.

This has important implications for trade theory. In the basic trade case without
externalities, we can state unambiguously that there are overall gains from trade. Even
though one group (automobile producers) loses, the gains to consumers outweigh these
losses. But once we introduce externalities, we can no longer be so sure that there are net
gains from trade. It depends on the nature and size of the environmental damages C and
D. Of course, there are policies that can internalize these external costs, such as
environmental taxes, permits, or regulations. But unless we can be confident that such
policies will be put in place, we cannot be sure that there will be a net gain from trade.

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Environmental Effects of Expanding Resource Exports

Environmental effects must also be figured into the analysis of the effects of trade
on an exporting country. This is shown in Figure 2. Here we use timber exports as our
example. In the ordinary analysis of trade without externalities, timber producers gain
areas A’+B’ since with trade they can produce and sell more timber, at the higher world
price Pw. Domestic consumers of timber lose A’, being able to afford less timber at the
higher world price. The net gain to the country is B’.

The external costs associated with higher timber production – which could include
land and watershed degradation as well as user costs, option values, and ecological costs
– are shown by the area of C’. We cannot tell for sure how B’ and C’ compare in size.2
Thus we cannot say unambiguously that there are net benefits from trade to this exporting
country. In more commonsense terms, it is not clear that the economic benefits of
increased exports outweigh the environmental damage associated with expanded logging.

Figure 2. Gains and Losses from Exporting Timber

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 It may be possible to export pollution by importing goods whose production
involves high environmental impacts. In addition, expanded trade tends to increase the
scale of production for the world as a whole, meaning that the total volume of pollution
and environmental damage is likely to increase. Trade also necessarily involves energy
use for transportation, with resulting air pollution and other environmental impacts.
There can also be indirect environmental effects of trade, for example when peasant
farmers are displaced by larger-scale export agriculture onto marginal lands such as
hillsides and forest margins. Specific kinds of trade, such as trade in toxic wastes or
endangered species, have obvious environmental impacts.

Trade may also have environmentally beneficial effects. Freer trade may facilitate
the spread of environmentally friendly technology, and the tendency of trade to promote
more efficient production will tend to reduce materials and energy use per unit of output.
In addition, trading nations may come under pressure to improve environmental standards
when product quality or transboundary impacts are at issue.3 How can we balance the
economic gains from trade against the reality that trade shifts environmental impacts,
sometimes increasing and sometimes decreasing total external costs?

2. TRADE AND ENVIRONMENT: POLICY AND PRACTICE

Many developing countries grow agricultural crops for domestic sale as well as for
export. With increased trade – which is often a major feature of structural adjustment
policies required by international agencies such as the International Monetary Fund and
the World Bank – the area devoted to export crops increases. What are the environmental
effects of shifting to export crops? In some cases they can be significant, and harmful.

A study of Mali, for example, finds that the development of cotton as a cash
export crop

“has substantially increased the cultivated area and markedly reduced the fallow
period. . . the profitability of cotton led farmers to increase greatly the area
cultivated, extending onto marginal land. There is evidence of farmers’ occupying
and working land in excess of their real needs in order to forestall its use by
others. Almost no fallowing is practiced in the region. The environmental effects
are evident in land degradation and soil erosion owing to overcultivation,
insufficient fallow, and the use of marginal land against a backdrop of increasing
aridity.”4

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 On the other hand, export crops may sometimes be more environmentally friendly
than the domestic crops they replace. In Latin America and Africa, tree crops such as
coffee and cocoa can help to prevent erosion. In a more controversial case in Kenya,
horticulture (growing flowers for the European market) provides a high-value export that
is claimed to have little negative environmental effect, although concerns have recently
been raised about the health and environmental effects of pesticide use in horticulture. In
the Kenyan case, the flowers are flown to Europe by jet, so transportation energy use
could raise an environmental issue – but proponents argue that the energy consumed in
jet fuel is less than the energy needed to grow similar flowers in heated greenhouses in
Europe.

Much depends not on trade alone, but on domestic political conditions. Dualistic
land ownership, with large landowners wielding considerable political power displacing
small farmers and growing crops primarily intended for export, can be doubly damaging
to the environment. In Central America, for example, improved infrastructure for
transportation and trade led to “a technical shift to higher-profit, input-dependent
farming. Maize and beans gave way to cotton, tomatoes, strawberries, and bananas. The
value of farmland naturally increased, which benefited privileged land-owning elites but
led many poor farmers to be promptly evicted. These small farmers had no choice but to
move on to drier lands, forests, hillsides, or lands with shallow and less fertile soils.” At
the same time the affluent farmers “use their influence to demand environmentally
damaging input subsidies, which in turn lead them to overmechanize, overirrigate, and
overspray.”5

Health and safety issues arising in trade are not always easily resolved at either the
domestic or international levels. Domestic regulations that prohibit the sale of, for
example, a toxic pesticide, do not apply internationally. “Goods that are restricted in
domestic markets, on the grounds that they present a danger to human, animal or plant
life or health, or to the environment, may often be legally exported. This may cause a
problem for the importing country, where information is lacking on whether and why the
product is banned: exporters may make false declarations, customs authorities
(particularly in developing countries) may lack adequate product testing facilities.”6

According to GATT Article XX, countries are allowed to restrict trade in order to
“conserve exhaustible natural resources” or to protect “human, animal or plant life or
health.” However, the interpretation of this special exception to free trade rules has led to
fiercely contested disputes among countries.

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 For example, European nations have refused to allow imports of U.S. beef
produced with hormone supplements. The U.S. has argued that since there is no proven
harm to human health from the use of hormones, this is an illegal barrier to trade. The
Europeans, however, cite the precautionary principle: since they fear the possible
effects of hormones, shouldn’t it be their prerogative to decide what they will allow for
domestic consumption?

Product and Process Issues

A similar issue has arisen over the use of genetically engineered crops. While
unlabeled genetically engineered foods are allowed in the U.S., they are widely opposed
in Europe. Should European countries be able to ban the import of genetically
engineered foods? The issue has enormous implications both for agribusinesses who see
great profit potential in genetic engineering, and for many consumers who strongly
oppose it.

The issue is further complicated because much of the opposition to genetic

engineering is based not on possible human health effects (which, if proved, would be a
valid reason for trade restrictions under Article XX), but on the likely environmental
impacts of genetically engineered crops. Pollen from such crops can easily spread into
the environment, disrupting fragile ecosystems and possibly creating “superweeds”
resistant to pesticides. But under GATT and WTO rules, the process by which a product
is produced is not an acceptable cause for trade restrictions. Only if the product itself is
harmful can a country impose controls.

For example, if pesticide residues at dangerous levels are detected on fruit or

vegetables, import of those products can be banned. But if the overuse of pesticides is
causing environmental damage in the producing areas, the importing nation has no right
to act. Similarly, if rainforests are being destroyed by unrestricted logging, it is not
permissible for countries to impose a ban on the import of unsustainably produced
timber.

This process and production methods (PPM) rule removes an important

potential weapon for international environmental protection. If a nation fails to act to
protect its own environment, other countries have no trade leverage to promote better
environmental practices. Only if a specific multinational environmental agreement
(MEA), such as the Convention on International Trade in Endangered Species (CITES),
is in place are import restrictions permissible.

This principle was at issue in the tuna/dolphin and shrimp/turtle decisions

mentioned earlier, in which trade authorities ruled that nations had no jurisdiction over
extraterritorial environmental issues. But in an increasingly globalized world, such issues
are more and more common. Simply waiting for the producing country to “clean up its
act” is likely to be insufficient.

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Trade and Domestic Policy

Trade can impact domestic as well as international policy, weakening the

autonomy of nations to define their own environmental and social policies. Concerns
have arisen of a “race to the bottom”, in which nations reduce environmental and social
standards in order to gain competitive advantage.

“Producers located in member states enforcing strict process standards will suffer
a competitive disadvantage compared with producers located in member states
enforcing less strict standards. All things being equal, this may result in increased
sales, market share and profitability for those producers located in low-standard
member states . . . faced with the prospect of their industries suffering a
competitive disadvantage when compared with companies located in low-standard
jurisdictions, member states may choose not to elevate environmental standards or
may even relax current standards.”7

The North American Free Trade Agreement (NAFTA) has produced cases in
which corporations have challenged environmental regulations as barriers to trade.8 The
Canadian asbestos industry sought to remove U.S. restrictions on the sale of cancer-
causing asbestos products, while the U.S. pesticide industry challenged strong Canadian
pesticide regulations. In one case, the Ethyl Corporation (based in the U.S.) successfully
overturned a Canadian ban on the importation and sale of the gasoline additive MDMA, a
chemical suspected to cause nerve damage. Canada was required not only to eliminate
the ban, but also to pay $10 million compensation to Ethyl Corp. for legal costs and lost
sales.

Trade expansion may also have direct or indirect beneficial effects on the
environment. According to the theory of comparative advantage, trade causes countries
to become more efficient in their use of resources, thereby conserving resources and
avoiding waste. Trade liberalization may also involve removal of distortionary subsidies
and pricing policies, improving the efficiency of resource allocation. For example,
widespread subsidies on chemical fertilizers and pesticides promote environmentally
harmful farming methods – but such subsidies to domestic producers are generally
prohibited in trade agreements. Eliminating these subsidies would promote both
economic efficiency and environmental sustainability.

Trade may also encourage the spread of environmentally friendly technology. In

energy production, for example, many developing and formerly communist nations are
heavily dependent on old, inefficient, high-polluting power plants. Trade can facilitate
the replacement of these plants with modern, highly efficient combined cycle facilities or

7
Brack, 1998, p. 113.
8
The parties to the NAFTA are the United States, Canada, and Mexico. Discussions are underway to create a Free
Trade for the Americas (FTAA), which would extend NAFTA-like rules to all of North and South America.

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(as in India) encourage a growing wind-power sector. Multinational companies,
sometimes seen as offenders in the exploitation of developing country resources, can also
introduce efficient technologies into industrial sectors. Multinationals may be responsive
to domestic political pressures to develop cleaner industrial processes, which they then
disseminate throughout their worldwide operations.

“Foreign investment affects the environment in many ways. In resource-based

industries, especially oil extraction and mineral mining, it can lead to significant
local environmental degradation as demonstrated in, for example, Nigeria,
Indonesia, and Papua New Guinea. Foreign investment in the manufacturing
sector, on the other hand, can lead to the employment of later vintage and possible
less resource- and pollution-intensive technology”9

On the negative side, globalization of trade can also create “boomerang” effects
through the transboundary exchange of externalities. Poor laborers who apply pesticides
without safety precautions suffer harmful effects, as do adults and children who drink
water from streams polluted by runoff. In addition, harmful effects return to the United
States through fruits containing residues of dangerous chemicals.

The relationship between trade and environmental quality is clearly complex.

Economic growth based on free trade reduces some negative environmental impacts but
exacerbates others. (For more on the relationship between economic growth and
environmental quality, see Box 1).

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 BOX 1. THE ENVIRONMENTAL KUZNETS CURVE DEBATE

Defenders of free trade have often relied on what has come to be known as the
Environmental Kuznets Curve (EKC) principle, which asserts that environmental
damage increases in the early stages of growth, but diminishes once nations reach
higher levels of income (see Figure 3). According to this theory, after passing through
a "dirty" stage of development, nations will put effort into "cleaning up" and may also
shift to less-polluting production methods. More open trade will therefore accelerate
the process of achieving both economic growth and a cleaner environment.

Is the EKC principle supported by empirical data? The picture is mixed. A

study by Grossman and Krueger found it to be effective for a limited number of air and
water pollutants.i But other important environmental pollutants, such as nitrogen
oxides, carbon monoxide, carbon dioxide, methane, and tropospheric ozone, were not
included, nor were municipal wastes or measures of ecosystem degradation such as
species loss, soil degradation, or groundwater depletion.

According to a World Bank study, carbon dioxide emissions and municipal

wastes continued to increase with economic growth. And even for those pollutants
which seem to conform to an EKC the "turning points" are high enough, ranging from
$2000 to $12,000 in income, to imply a considerable increase in pollution for most of
the world's developing nations before any improvement would be noted. According to
one EKC study, the estimated global "turning point" for sulfur dioxide would not come
until 2085, by which time global emissions would be 354 percent above 1986 levels;
suspended particulate matter would peak in 2089 at 421 percent higher emissions, and
nitrogen oxides in 2079 with 226 percent higher emissions.ii

Another review of EKC studies suggested that “using different indicators, more
explanatory variables than income alone, and the estimation of different models, the
EKC results are generally not reproduced. This should be a warning to those who too
superficially have concluded that economic growth is, by nature, a benefit for the
environment and that economic growth can be proscribed as the remedy to
environmental problems.”iii

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 BOX 1. THE ENVIRONMENTAL KUZNETS CURVE DEBATE (CONTINUED)

Clearly, trade-led growth can have significant environmental impacts. Although

economic growth may increase the capabilities of nations to promote environmental
protection, avoiding unacceptable levels of environmental damage will require specific
policies to reduce pollution.

Figure 3. Environmental Kuznets Curve for Sulfur

Source: Panayotou, 1993.

3. TRADE AGREEMENTS AND THE ENVIRONMENT

What institutions and policies can be effective in balancing the goals of trade
benefits and environmental protection? A variety of approaches have been suggested,
some similar to the standard free trade model, and some which are significantly different.
These approaches include:

The World Trade Organization Approach

This approach retains the overarching policy goal of free or “liberalized” trade, pursued
for five decades through “rounds” of trade agreements under the General Agreement on
Tariffs and Trade (GATT), which became the World Trade Organization in 1994. The
GATT and the WTO, whose membership now includes over 120 nations, have worked to

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lower tariffs and nontariff barriers to trade, as well as to eliminate subsidies for export
industries.

Although the WTO recognizes a special exception to trade rules under Article XX
for resource conservation and environmental protection, its panel rulings have interpreted
this narrowly. WTO authorities tend to be suspicious of “green protectionism” – the use
of trade barriers to protect domestic industry from competition under the guise of
environmental regulation. They are also unsympathetic to efforts by nations to use trade
measures to affect environmental policy outside their borders.

From the WTO perspective, the responsibility for environmental policy should
remain at the national level. As far as possible, decisions on international trade policy
should not be complicated with environmental issues. This is consistent with an
economic principle known as the specificity rule: policy solutions should be targeted
directly at the source of the problem. Using trade measures to accomplish environmental
policy goals is therefore a second-best solution, which is likely to cause other, undesired
effects such as the reduction of gains from trade.

This argument, placing the responsibility for environmental policies on national

governments, has been criticized on several grounds. It fails to consider the competitive
pressures that may encourage trading nations to reduce environmental protections, as well
as the inadequate institutional structures in many developing countries. It is also
inadequate for dealing with environmental problems which are truly transboundary or
global.

The North American Free Trade Agreement (NAFTA) Approach

In 1993, the United States, Canada, and Mexico signed the NAFTA agreement,
lowering trade barriers across the continent. During the negotiations for this agreement,
environmental groups argued strongly that freer trade could lead to negative
environmental consequences, pointing to the severe environmental problems already
affecting the maquiladoras -- tariff-free industrial zones along the Mexican border. As a
result, a side agreement, the North American Agreement on Environmental Cooperation
(NAAEC), set up the tripartite Commission for Environmental Cooperation (CEC), while
another side agreement, the North American Agreement on Labor Cooperation
(NAALC), dealt with labor issues.

This specific attention to social and environmental aspects of trade was

remarkable and almost unprecedented in trade agreements. While this unusual aspect of
NAFTA persuaded some environmental groups in the U.S. to support the agreement, the
CEC has few powers. It may respond to a country's failure to enforce existing
environmental regulations, but its role is generally limited to producing a fact-finding
report and recommendations to the government involved. In addition, promises of

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funding to clean up environmentally damaged areas along the Mexican/U.S. border have
generally not been fulfilled, while border conditions have continued to deteriorate.10

The opening of agricultural sector trade under NAFTA has both social and
environmental effects, as small corn farmers in Mexico are able to compete with cheaper
grain imported from the U.S. The migration of displaced farmers from rural to urban
areas will intensify urban environmental pressures, as well as creating greater pressure
for illegal migration across the U.S./Mexico border. In addition, the genetic diversity
characteristic of small-scale farming may be threatened, which could result in the loss of
a “living seed bank” of great importance to world agriculture.11

In the area of industrial pollution, NAFTA has had both positive and negative
impacts. Mexican environmental enforcement has improved, but increased industrial
concentrations have led to worsened local environmental quality in some areas. A recent
review of NAFTA’s environmental provisions concludes that have “fallen well short of
the aspirations of the environmental community” and “should be strengthened in the next
phase of NAFTA.”12

The European Union Approach

The European Union is unusual in being a free-trade area that has its own
legislative and administrative institutions. Unlike the North American CEC, the
European Union has the power to set environmental standards which are binding on its
member countries. This is known as the harmonization of environmental standards.
Note, however, that this policy involves more than free trade; it entails the creation of a
supranational authority with the power to set environmental standards.

Regional trade area policies also raise the issue of “harmonizing up” versus
“harmonizing down”. Some countries may be forced to tighten their environmental
policies to meet EU standards. But other countries may find their environmental
standards weakened. A law requiring returnable bottles in Denmark was overturned by
the EU as a barrier to trade, and Norway chose not to join the EU in part out of fear that
they would be compelled to modify strict domestic environmental regulations.

It is relatively rare for trade agreements to include the kind of enforceable

supranational environmental regulations that exist in the EU. Although the Standards
Code adopted after the Uruguay Round negotiations in 1992 calls for international
harmonization of environmental standards, there is no basis for this process to be other
than voluntary. Indeed, critics feel that harmonization undertaken in the closed, business-

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dominated atmosphere of the WTO standards committees would be likely to harmonize
standards down rather than up in many cases.

Multilateral Environmental Agreements (MEAs)

It has long been recognized that some environmental problems require

international solutions. The first international treaty dealing with trade and the
environment was the Phylloxera agreement of 1878, which restricted trade in grapevines
to prevent the spread of pests that damage vineyards. In 1906 an international convention
was adopted banning the use of phosphorus in matches. Phosphorous was responsible for
serious occupational disease among match workers, but it was the cheapest ingredient for
matches. An international convention was required to prevent any exporting country
from gaining competitive advantage by using phosphorus in match production.13

Since then, numerous international treaties have been adopted to respond to

specific environmental issues. These include conventions protecting fur seals, migratory
birds, polar bears, whales, and endangered species. Transboundary and global
environmental issues have been addressed in the Montreal Protocol on Substances that
Deplete the Ozone Layer (1987), the Basel Convention on Hazardous Wastes (1989), the
Antarctica Treaty (1991), and the Convention on Straddling and Highly Migratory Fish
Stocks (1995). In 1997 the Kyoto Protocol on Climate Change established guidelines for
reducing greenhouse gas emissions, including important trade-related measures.

These international treaties have addressed the environmental impacts of

production methods in ways that individual nations cannot.

“The local imposition of PPM standard on domestic manufacturing industry is

obviously a national prerogative, but it should not be used to restrict imported
products, whatever the process used for their production. This kind of action
would be in conflict with the GATT. If PPMs are included as appropriate
measures within an Multilateral Environmental Agreement (MEA), however, this
would be much more acceptable, as their imposition would be multilateral rather
than unilateral.”14

Serious questions remain, however, about the compatibility of MEAs with WTO
rules. Which set of international agreements should take precedence in the case of a
conflict? For example, the Kyoto protocol encourages the subsidized transfer of energy-
efficient technology to developing nations – but this provision could be in violation of the
WTO’s prohibition of export subsidies. Whereas national laws such as the U.S. Marine
Mammal Protection Act have been found incompatible with WTO rules, there has so far
been no major test case involving conflict between an MEA and a trade agreement.

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4. STRATEGIES FOR SUSTAINABLE TRADE

The emerging twenty-first century global economy will be characterized both by

resource and environmental limits and by a much more important role for the presently
developing nations. Expanded global trade will bring benefits in terms of increased
efficiency, technology transfer, and the import and export of sustainably produced
products. But we must also evaluate the effects of trade in terms of social and ecological
impacts.

A World Bank review of trade and environment issues finds that “many
participants in the debate now agree that (a) more open trade improves growth and
economic welfare, and (b) increased trade and growth without appropriate environmental
policies in place may have unwanted effects on the environment.”15 This implies that
future trade agreements must take environmental sustainability more explicitly into
account. Introducing sustainability into trade policy will require institutional changes at
global, regional, and local levels.

“Greening” Global Environmental Organizations

At the global level, a major reform proposal would be to set up a World

Environmental Organization (WEO)16 which would counterbalance the World Trade
Organization much as national environmental protection agencies balance departments of
finance and commerce. This would create a global environmental advocacy organization,
but might lead to conflict and deadlock with other transnational institutions. Another
approach would be to "green" existing institutions, broadening the environmental and
social provisions of GATT's Article XX, and altering the missions of the World Bank and
International Monetary Fund to emphasize sustainable development objectives.

The idea of a World Environmental Organization may seem visionary, but there is
a good argument for its establishment. According to Sir Leon Brittan, former Vice
President of the European Commission: “Setting environmental standards within a
territory may be fine, but what about damage that spills over national borders? In a
rapidly globalizing world, more and more of these problems cannot be effectively solved
at the national or bilateral level, or even at the level of regional trading blocs like the
European Union. Global problems require global solutions.”17

A World Environmental Organization could serve as an umbrella for the

implementation of existing multinational environmental agreements, as well as promoting
further agreements consistent with global sustainable development strategies. Global

15

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public goods such as biodiversity, protection of the ozone layer, climate stabilization, and
the protection of oceans and water systems, would be the responsibility of the WEO.

A WEO could also play a role in the negotiation of trade agreements on

agricultural subsidies, seeking to redirect of farm subsidies to soil conservation and
development of low-input agricultural techniques. As global CO2 emissions continue to
rise, trade in the energy sector may need to accommodate a substantial carbon tax or
tradable permit scheme. Global agreements on forest and biodiversity preservation are
also likely to involve specific trade restrictions, tariff preferences, or labeling systems. In
all these areas, the existence of a powerful advocate for environmental interests would
have a major impact on the shaping of trade treaties and regulations.

Local, Regional, and Private Sector Policies

The trend towards globalization, which increasingly makes communities subject to

the logic of the global marketplace, is in conflict with the goal of strengthening local and
regional policies promoting sustainable development. Reserving powers of resource
conservation and management to local and regional institutions is important to the
sustainable management of resources. Also, it is often difficult to make a match between
centralized World Bank or institutional financing, even if "greened", and the local
institutions that are crucial to effective implementation of resource conservation and
environmental standards. Most environmental policies are implemented at the national
level, and it is important to maintain national authority to enforce environmental
standards.

In regional groupings such as NAFTA, that involve no supranational rule-making

body, trade agreements could give special status to national policies aimed at sustainable
agriculture and resource management. NAFTA rules currently give precedence to
international environmental treaties (the Basel Convention on hazardous wastes, the
Montreal Protocol on ozone depleting substances, and CITES on endangered species).
This principle could be expanded to all national environmental protection policies, and
effective sanctions for environmental violations could be established.

In regional trade and customs unions such as the European Union where elected
supranational policy-making bodies exist, these bodies must take responsibility for
environmental and social issues to the extent that their legitimate democratic mandate
allows. Transboundary issues are a logical area for supranational bodies to be
responsible for environmental rule making. Where they are empowered to intervene in
national policy-making, the process must be oriented towards "harmonizing up" rather
than "harmonizing down" standards. This means that countries within the common
market must retain the power to impose higher social and environmental standards where
they see fit.

Certification and labeling requirements for sustainably produced products help

consumers make informed purchasing decisions. Germany’s “green dot” system for

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recyclable and recycled goods is one example. Private, non-governmental organizations
have also set up certification systems for goods such as coffee and timber. To be
effective in a globalized world, however, certification systems must be international.
This requires support both at the national level and from corporations and international
agencies.

In conclusion, it is evident that there are many different approaches to reconciling

the goals of trade and environmental policy. In an article reviewing the debate on trade
and the environment, Daniel Esty concludes that

“there is no real choice about whether to address the trade and environment
linkage; this linkage is a matter of fact... Environmental rules cannot be seen
simply as pollution control or natural resource management standards; they also
provide the ground rules for international commerce and serve as an essential
bulwark against market failure in the international economic system. Building
environmental sensitivity into the trade regime in a thoughtful and systematic
fashion should therefore be of interest to the trade community as well as
environmental advocates.”18

Achieving this goal will be a major challenge for trade negotiators at both regional and
global levels for the foreseeable future.

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5. SUMMARY

Trade expansion can often have environmental implications. Trade may increase
environmental externalities at the national, regional, or global level. While it is usually
economically advantageous for countries to pursue their comparative advantage through
trade, environmental impacts such as increased pollution or natural resource degradation
may also occur as a result of trade.

The effects of trade on the environment are varied. Agricultural cropping patterns
altered by the introduction of export crops may involve environmental benefit or harm.
Secondary effects of trade may arise from the disruption of existing communities,
increased migration, and impacts on marginal lands. Industrial pollution may be
increased, reduced, or shifted in regional impact.

International trade agreements make some provisions for resource conservation

and environmental protection, but these are usually limited exceptions to a general
principle of free trade. In the World Trade Organization, countries are allowed to take
into account the environmental impacts of products, but not those associated with
production processes. This has led to numerous trade disputes over whether specific
measures are justified on the grounds of protection of life and health, or are simply
disguised protectionism.

Policy responses to trade and environment issues can occur at the national,
regional, or global level. The European Union is an example of a free trade area that has
set up institutions for transnational environmental standards enforcement. The North
American Free Trade Agreement was accompanied by a side agreement setting up an
environmental monitoring authority, the Commission for Environmental Cooperation, but
this body has little enforcement power.

Multilateral Environmental Agreements (MEAs) address specific environmental

issues which are transboundary or global. Conflicts between MEAs and World Trade
Organization rules are possible, but have so far been avoided. Proposals have been made
for a World Environmental Organization to oversee global environmental policy, and to
serve as an advocate for environmental interests in the world trade system.

Where effective environmental protection policies are lacking at the regional or

global level, national policies are needed to address trade-related environmental issues.
Certification and labeling requirements, instituted by governments or by private non-
governmental organizations, can help to promote consumer awareness and “greener”
corporate practices in international trade.

18
 KEY TERMS AND CONCEPTS

comparative advantage: the theory that trade benefits both parties by allowing each to
specialize in goods they can produce with relative efficiency.

dualistic land ownership: an ownership pattern, common in developing countries, where

large landowners wield considerable power and small landowners tend to be displaced.

Environmental Kuznets Curve (EKC): the theory that a nation’s environmental impact
increases in the early stages of economic development but eventually decreases as
income levels rise past some tipping point.

exporting pollution: importing goods whose production involves environmental impact,

thereby avoiding domestic production and impacts.

externalities: an effect of a market transaction on individuals or firms other than those

involved in the transaction.

gains from trade: the net social benefits that result from trade.

General Agreement on Tariffs and Trade (GATT): a multilateral trade agreement

providing a framework for the gradual elimination of tariffs and other barriers to trade;
the predecessor to the World Trade Organization.

GATT Article XX: the provision of GATT stating that a country can restrict trade to
conserve exhaustible natural resources or to protect human and non-human life or health.

green protectionism: the use of allegedly environmental measures to protect a country’s

industry from foreign competition.

harmonization of environmental standards: the standardization of environmental

standards across countries, as in the European Union.

multilateral environmental agreements (MEAs): international treaties between nations

on environmental issues, such as the Convention on Trade in Endangered Species.

precautionary principle: the view that policies should account for uncertainty by taking
steps to avoid low-probability but catastrophic events.

process and production methods (PPM) rules: international trade rules stating that an
importing country cannot use trade barriers or penalties against another country for
failure to meet environmental or social standards related to the process of production.

19
“race to the bottom”: the tendency for nations to weaken national environmental
standards to attract foreign businesses or to keep existing businesses from moving to
other nations.

specificity rule: the view that policy solutions should be targeted directly at the source of
a problem.

structural adjustment: policies to promote market-oriented economic reform in

developing countries by making loans conditional on reforms such as controlling
inflation, reducing trade barriers, and privatization of businesses.

World Environmental Organization (WEO): a proposed international organization that

would have oversight on global environmental issues.

World Trade Organization (WTO): an international organization dedicated to the

expansion of trade through lowering or eliminating tariffs and non-tariff barriers to trade.

20
 REFERENCES

Brack, Duncan ed. Trade and Environment: Conflict or Compatibility? London: Royal
Institute of International Affairs, 1998.

Commission for Environmental Cooperation (CEC). Assessing Environmental Effects of

the North American Free Trade Agreement: An Analytic Framework and Issue Studies.
Montreal: CEC, 1999.

Charnovitz, Steve. “Trade Measures and the Design of International Regimes”, Journal
of Environment and Development Vol. 5, No.2 (1996), pp.168-169.

Esty, Daniel C. Greening the GATT: Trade, Environment, and the Future. Washington
D.C.: Institute for International Economics, 1994.

Esty, Daniel C. “Bridging the Trade-Environment Divide,” Journal of Economic

Perspectives, vol. 15, no. 3 (2001): 353-377.

Fredriksson, Per G., ed. Trade, Global Policy, and the Environment. World Bank
Discussion Paper No. 402. Washington, D.C.: The World Bank, 1999.

Grossman, Gene, and Alan Krueger. “Economic Growth and the Environment.”
Quarterly Journal of Economics Vol. 110, No. 2 (1995), pp.353-77.

Harris, Jonathan M. “Free Trade or Sustainable Trade? An Ecological Economics

Perspective,” Chapter 5 in Harris ed. Rethinking Sustainability: Power, Knowledge, and
Institutions. Ann Arbor, Michigan: The University of Michigan Press, 2000.

Hufbauer, Gary C., Daniel C. Esty, Diana Orejas, Luis Rubio, and Jeffrey J. Scott.
NAFTA and the Environment: Seven Years Later. Policy Analyses in International
Economics 61.

Nadal, Alejandro. The Environmental and Social Impacts of Economic Liberalization on

Corn Production in Mexico. London, England: World Wildlife Fund and Oxfam UK,
2000.

Neumayer, Eric. Greening Trade and Investment: Environmental Protection without

Protectionism. London, England: Earthscan Publications, 2001.

Paarlberg, Robert. “Political Power and Environmental Sustainability in Agriculture,”

Chapter 7 in Harris ed. 2000.

Panayotou, T. “Empirical Tests and Policy Analysis of Environmental Degradation at

Different Levels of Development” Geneva: International Labour Office Working Paper
WP238, 1993.

21
Reed, David ed. Structural Adjustment, the Environment, and Sustainable Development.
London: World Wide Fund for Nature, 1996.

Rothman, Dale, and Sander de Bruyn. “Probing into the Environmental Kuznets Curve
Hypothesis” (Introduction to Special Issue on the Environmental Kuznets Curve).
Ecological Economics, vol. 25, no. 2 (1998): 143-145.

Runge, C. Ford. Freer Trade, Protected Environment: Balancing Trade Liberalization

and Environmental Interests. New York: Council on Foreign Relations Press, 1994.

Selden, Thomas M., and Daqing Song. Environmental Quality and Development: Is
There a Kuznets Curve for Air Pollution? Journal of Environmental Economics and
Management Vol. 27, No. 2 (1994), pp. 147-62.

Stern, David I. “Progress on the Environmental Kuznets Curve.” Environment and

Development Economics 3 (1998): 173-196.

Varady, Robert, and Maura Mack. “Transboundary Water Resources and Public Health
in the U.S./Mexico Border Region.” Journal of Environmental Health 17, 4 (1996), 23-
25.

22
 DISCUSSION QUESTIONS

1. What are the welfare implications of trade in toxic wastes? Should such trade be
banned or can it serve a useful function? Who should have the power to regulate trade in
toxic wastes, individual nations, local communities, or a global authority?

2. Can harmonization of environmental standards solve the problem of environmental

externalities in trade? How would the issues of harmonization differ in NAFTA, the
European Union, and the World Trade Organization? Would harmonization promote
economic efficiency as well as environmental improvement, or might it lead to lower
environmental standards?

3. What should be done if the provisions of a Multilateral Environmental Agreement are

in conflict with the principles of the World Trade Organization? Which should take
precedence and who should have the authority to decide? Which economic, social and
ecological principles should be used to decide such issues?

23
 WEB LINKS

1. http://www.wto.org/english/tratop_e/envir_e/envir_e.htm The World Trade

Organization’s web site devoted to the relationship between international trade issues and
environmental quality. The site includes links to many research reports and other
information.

2. http://www.oecd.org/ech/ The web site for the trade division of the Organisation for
Economic Co-operation and Development. The site includes many publications on trade
issues, including trade and the environment.

3. http://www.cec.org Home page for the Commission for Environmental Cooperation,

created under the North American Free Trade Agreement “to address regional
environmental concerns, help prevent potential trade and environmental conflicts, and to
promote the effective enforcement of environmental law.” The site includes numerous
publications on issues of trade and the environment.

24
 A GR E E ME NT O N S O U T H A S I A N F R E E T R A D E A R E A ( S A F T A )

The Gov ernments of the S AAR C ( S outh Asian Association for R eg ional Cooperation) Member
S tates comprising the People's R epublic of Bang ladesh, the K ing dom of Bhutan, the R epublic of India, the
R epublic of Maldiv es, the K ing dom of Nepal, the Islamic R epublic of Pakistan and the Democratic S ocialist
R epublic of S ri Lanka hereinafter referred to as "Contracting S tates"

Motiv ated by the commitment to streng then intra- S AAR C economic cooperation to maximise the
realization of the reg ion's potential for trade and dev elopment for the benefit of their people, in a spirit of
mutual accommodation, with full respect for the principles of sov ereig n equality , independence and
territorial integ rity of all S tates;

Noting that the Ag reement on S AAR C Preferential Trading Arrang ement ( S APTA) sig ned in Dhaka on the
11th of April 1993 prov ides for the adoption of v arious instruments of trade liberalization on a preferential
basis;

Conv inced that preferential trading arrang ements among S AAR C Member S tates will act as a stimulus to
the streng thening of national and S AAR C economic resilience, and the dev elopment of the national
economies of the C ontracting S tates by expanding inv estment and production opportunities, trade, and
foreig n exchang e earning s as well as the dev elopment of economic and technolog ical cooperation;

A w are that a number of reg ions are entering into such arrang ements to enhance trade throug h the free
mov ement of g oods;

R ecog niz ing that Least Dev eloped C ountries in the reg ion need to be accorded special and differential
treatment commensurate with their dev elopment needs; and

R ecog niz ing that it is necessary to prog ress bey ond a Preferential T rading Arrang ement to mov e towards
hig her lev els of trade and economic cooperation in the reg ion by remov ing barriers to cross -border flow of
goods;

H av e ag reed as follow s :

A rticle - 1

D efinitions

For the purposes of this Ag reement:

1. Conces s ions mean tariff, para- tariff and non -tariff concessions ag reed under the Trade
Liberalisation Prog ramme;

2. D irect T rade Meas ures mean measures conduciv e to promoting mutual trade of C ontracting
S tates such as long and medium -term contracts containing import and supply commitments in
respect of specific products, buy -back arrang ements, state trading operations, and g ov ernment
and public procurement;

3. L eas t D ev eloped Contracting S tate refers to a C ontracting S tate which is desig nated as a
"Least Dev eloped C ountry " by the United Nations;

4. Marg in of P reference means percentag e of tariff by which tariffs are reduced on products
imported from one C ontracting S tate to another as a result of preferential treatment.

5. Non - T ariff Meas ures include any measure, reg ulation, or practice, other than "tariffs" and
"paratariffs".

6. P ara - T ariffs mean border charg es and fees, other than "tariffs", on foreig n trade transactions of
a tariff- like effect which are lev ied solely on imports, but not those indirect taxes and charg es,
which are lev ied in the same manner on lik e domestic products. Import charg es corresponding to
 specific serv ices rendered are not considered as para - tariff measures;

7. P rod ucts mean all products including manufactures and commodities in their raw, semi-
processed and processed forms;

8. S A P T A means Ag reement on S AAR C Preferential Trading Arrang ement sig ned in Dhaka on the
11th of April 1993;

9. S erious injury means a sig nificant impairment of the domestic industry of like or directly
competitiv e products due to a surg e in preferential imports causing substantial losses in terms of
earning s, production or employ ment unsustainable in the short term;

10. T ariffs mean customs duties included in the national tariff schedules of the Contracting S tates;

11. T hreat of s erious injury means a situation in which a substantial increase of preferential imports
is of a nature to cause "serious injury " to domestic producers, and that such injury , althoug h not
y et existing , is clearly imminent. A determination of threat of serious injury shall be based on facts
and not on mere alleg ation, conjecture, or remote or hy pothetical possibility .

A rticle - 2

E s tablis hm ent

The Contracting S tates hereby establish the S outh Asian Free Trade Area ( S AFTA) to promote and
enhance mutual trade and economic cooperation among the C ontracting S tates, throug h
exchang ing concessions in accordance with this Ag reement.

A rticle - 3

Objectiv es and Principles

1. T he Objectiv es of this Ag reement are to promote and enhance mutual trade and economic
cooperation among Contracting S tates by , inter -alia:

a) eliminating barriers to trade in, and facilitating the cross -border mov ement of g oods
between the territories of the Contracting S tates;

b) promoting conditions of fair competition in the free trade area, and ensuring equitable
benefits to all C ontracting S tates, taking into account their respectiv e lev els and pattern of
economic dev elopment;

c) creating effectiv e mechanism for the implementation and application of this Ag reement,
for its joint administration and for the resolution of disputes; and

d) establishing a framework for further reg ional cooperation to expand and enhance the
mutual benefits of this Ag reement.

2. S AFTA shall be g ov erned in accordance with the following principles:

a) S AFT A will be g ov erned by the prov isions of this Ag reement and also by the rules,
reg ulations, decisions, understanding s and protocols to be ag reed upon within its
framework by the C ontracting S tates;

b) T he C ontracting S tates affirm their existing rig hts and oblig ations with respect to each
other under Marrakesh Ag reement E stablishing the W orld T rade Org anization and other
T reaties/Ag reements to which such C ontracting S tates are sig natories;

c) S AFTA shall be based and applied on the principles of ov erall reciprocity and mutuality of
adv antag es in such a way as to benefit equitably all C ontracting S tates, tak ing into
account their respectiv e lev els of economic and industrial dev elopment, the pattern of
 their external trade and tariff policies and sy stems;

d) S AFT A shall inv olv e the free mov ement of g oods, between countries throug h, inter alia,
the elimination of tariffs, para tariffs and non - tariff restrictions on the mov ement of g oods,
and any other equiv alent measures;

e) S AFT A shall entail adoption of trade facilitation and other measures, and the prog ressiv e
harmonization of leg islations by the C ontracting S tates in the relev ant areas; and

f) T he special needs of the Least Dev eloped C ontracting S tates shall be clearly recog nized by
adopting concrete preferential measures in their fav our on a non-reciprocal basis.

A rticle - 4

I ns trum ents

T he S AFT A Ag reement will be implemented throug h the following instruments: -

1. Trade Liberalisation Prog ramme

2. Rules of Origin

3. Institutional Arrang ements

4. Consultations and Dispute S ettlement Procedures

5. S afeguard Measures

6. Any other instrument that may be ag reed upon.

A rticle - 5

National T reatm ent

E ach Contracting S tate shall accord national treatment to the products of other Contracting S tates
in accordance with the prov isions of Article III of GATT 1994.

A rticle - 6

Com ponents

S AFTA may , inter -alia, consist of arrang ements relating to:

a) tariffs;
b) para - tariffs;
c) non - tariff measures;
d) direct trade measures.

A rticle - 7
T rade L iberalis ation P rog ram m e

1. Contracting S tates ag ree to the following schedule of tariff reductions:

a) The tariff reduction by the Non - Least Dev eloped C ontracting S tates from existing tariff
rates to 20% shall be done within a time frame of 2 y ears, from the date of coming into
force of the Ag reement. C ontracting S tates are encourag ed to adopt reductions in equal
annual installments. If actual tariff rates after the coming into force of the Ag reement are
below 20% , there shall be an annual reduction on a Marg in of Preference basis of 10% on
actual tariff rates for each of the two y ears.

b) T he tariff reduction by the Least Dev eloped C ontracting S tates from existing tariff rates
will be to 30% within the time frame of 2 y ears from the date of coming into force of the
Ag reement. If actual tariff rates on the date of coming into force of the Ag reement are
below 30% , there will be an annual reduction on a Marg in of Preference basis of 5 % on
actual tariff rates for each of the two y ears.

c) T he subsequent tariff reduction by Non - Least Dev eloped Contracting S tates from 20% or
below to 0 -5% shall be done within a second time frame of 5 y ears, beg inning from the
third y ear from the date of coming into force of the Ag reement. Howev er, the period of
subsequent tariff reduction by S ri Lanka shall be six y ears. Contracting S tates are
encourag ed to adopt reductions in equal annual installments, but not less than 15%
annually.

d) T he subsequent tariff reduction by the Least Dev eloped C ontracting S tates from 30% or
below to 0- 5% shall be done within a second time frame of 8 y ears beg inning from the
third y ear from the date of coming into force of the Ag reement. T he Least Dev eloped
Contracting S tates are encourag ed to adopt reductions in equal annual installments, not
less than 10% annually .

2. T he abov e schedules of tariff reductions will not prev ent C ontracting S tates from immediately
reducing their tariffs to 0 - 5% or from following an accelerated schedule of tariff reduction.

3. a) C ontracting S tates may not apply the T rade Liberalisation Prog ramme as in parag raph 1
abov e, to the tariff lines included in the S ensitiv e Lists which shall be neg otiated by the
Contracting S tates ( for LDCs and Non -LDC s) and incorporated in this Ag reement as an
integ ral part. T he number of products in the S ensitiv e Lists shall be subject to maximum
ceiling to be mutually ag reed among the C ontracting S tates with flexibility to Least
Dev eloped Contracting S tates to seek derog ation in respect of the products of their export
interest; and

b) T he S ensitiv e List shall be rev iewed after ev ery four y ears or earlier as may be decided by
S AFTA Ministerial Council ( S MC) , established under Article 10, with a v iew to reducing the
number of items in the S ensitiv e List.

4. The Contracting S tates shall notify the S AAR C S ecretariat all non - tariff and para -tariff measures to
their trade on an annual basis. The notified measures shall be rev iewed by the Committee of
E xperts, established under Article 10, in its reg ular meeting s to examine their compatibility with
relev ant W T O prov isions. T he C ommittee of E xperts shall recommend the elimination or
implementation of the measure in the least trade restrictiv e manner in order to facilitate
intraS AAR C trade1 .

5. C ontracting Parties shall eliminate all quantitativ e restrictions, except otherwise permitted under
GATT 1994, in respect of products included in the Trade Liberalisation Prog ramme.

6. Notwithstanding the prov isions contained in parag raph 1 of this Article, the Non -Least Dev eloped
Contracting S tates shall reduce their tariff to 0 -5% for the products of Least Dev eloped
Contracting S tates within a timeframe of three y ears beg inning from the date of coming into force
of the Ag reement.

A rticle - 8

A dditional Meas ures

 C ontracting S tates ag ree to consider, in addition to the measures set out in Article 7, the adoption
of trade facilitation and other measures to support and complement S AFT A for mutual benefit.
These may include, among others: -

a) harmonization of standards, reciprocal recog nition of tests and accreditation of testing

laboratories of Contracting S tates and certification of products;
b) simplification and harmonization of customs clearance procedure;
c) harmonization of national customs classification based on HS coding sy stem;
d) C ustoms cooperation to resolv e dispute at customs entry points;
e) simplification and harmonization of import licensing and reg istration procedures;
f) simplification of banking procedures for import financing ;
g) transit facilities for efficient intra -S AAR C trade, especially for the land- locked Contracting
S tates;
h) remov al of barriers to intra -S AAR C inv estments;
i) macroeconomic consultations;
j) rules for fair competition and the promotion of v enture capital;
k) dev elopment of communication sy stems and transport infrastructure;
l) making exceptions to their foreig n exchang e restrictions, if any , relating to pay ments for
products under the S AFTA scheme, as well as repatriation of such pay ments without
prejudice to their rig hts under Article X V III of the General Ag reement on T ariffs and T rade
( GAT T ) and the relev ant prov isions of Articles of T reaty of the International Monetary
Fund ( IMF) ; and
m) S implification of procedures for business v isas.

A rticle - 9

E x tens ion of Neg otiated Conces s ions

Concessions ag reed to, other than those made exclusiv ely to the Least Dev eloped Contracting
S tates, shall be extended unconditionally to all C ontracting S tates.

A rticle - 1 0

I ns titutiona l A rra ng em ents

1. T he C ontracting S tates hereby establish the S AFT A Ministerial C ouncil ( hereinafter referred to as
S MC ) .

2. The S MC shall be the hig hest decision -making body of S AFTA and shall be responsible for the
administration and implementation of this Ag reement and all decisions and arrang ements made
within its leg al framework.

3. The S MC shall consist of the Ministers of Commerce/Trade of the Contracting S tates.

4. The S MC shall meet at least once ev ery y ear or more often as and when considered necessary by
the C ontracting S tates. E ach C ontracting S tate shall chair the S MC for a period of one y ear on
rotational basis in alphabetical order.

5. T he S MC shall be supported by a C ommittee of E xperts ( hereinafter referred to as C OE ) , with one

nominee from each C ontracting S tate at the lev el of a S enior E conomic Official, with expertise in
trade matters.

6. T he C OE shall monitor, rev iew and facilitate implementation of the prov isions of this Ag reement
and undertake any task assig ned to it by the S MC . T he C OE shall submit its report to S MC ev ery
six months.

7. T he C OE will also act as Dispute S ettlement Body under this Ag reement.

8. The COE shall meet at least once ev ery six months or more often as and when considered
necessary by the C ontracting S tates. E ach C ontracting S tate shall chair the C OE for a period of
 one y ear on rotational basis in alphabetical order.

9. T he S AAR C S ecretariat shall prov ide secretarial support to the S MC and C OE in the discharg e of
their functions.

10. T he S MC and C OE will adopt their own rules of procedure.

A rticle - 1 1

S pecial and D ifferential T reatm ent for the L eas t D ev eloped Contracting S tates

In addition to other prov isions of this Ag reement, all C ontracting S tates shall prov ide special and
more fav orable treatment exclusiv ely to the Least Dev eloped C ontracting S tates as set out in the
following sub - parag raphs:

a) T he C ontracting S tates shall g iv e special reg ard to the situation of the Least Dev eloped
Contracting S tates when considering the application of anti- dumping and/or counterv ailing
measures. In this reg ard, the C ontracting S tates shall prov ide an opportunity to Least
Dev eloped C ontracting S tates for consultations. T he C ontracting S tates shall, to the extent
practical, fav ourably consider accepting price undertak ing s offered by exporters from
Least Dev eloped C ontracting S tates. T hese constructiv e remedies shall be av ailable until
the trade liberalisation prog ramme has been completed by all C ontracting S tates.

b) Greater flexibility in continuation of quantitativ e or other restrictions prov isionally and

without discrimination in critical circumstances by the Least Dev eloped C ontracting S tates
on imports from other Contracting S tates.

c) Contracting S tates shall also consider, where practical, taking direct trade measures with
a v iew to enhancing sustainable exports from Least Dev eloped C ontracting S tates, such as
long and medium- term contracts containing import and supply commitments in respect of
specific products, buy- back arrang ements, state trading operations, and g ov ernment and
public procurement.

d) S pecial consideration shall be g iv en by Contracting S tates to requests from Least

Dev eloped Contracting S tates for technical assistance and cooperation arrang ements
desig ned to assist them in expanding their trade with other Contracting S tates and in
taking adv antag e of the potential benefits of S AFTA. A list of possible areas for such
technical assistance shall be neg otiated by the C ontracting S tates and incorporated in this
Ag reement as an integ ral part.

e) The Contracting S tates recog nize that the Least Dev eloped Contracting S tates may face
loss of customs rev enue due to the implementation of the Trade Liberalisation Prog ramme
under this Ag reement. Until alternativ e domestic arrang ements are formulated to address
this situation, the Contracting S tates ag ree to establish an appropriate mechanism to
compensate the Least Dev eloped Contracting S tates for their loss of customs rev enue.
T his mechanism and its rules and reg ulations shall be established prior to the
commencement of the T rade Liberalisation Prog ramme ( T LP) .

A rticle - 1 2

S pecial P rov is ion for Maldiv es

Notwithstanding the potential or actual g raduation of Maldiv es from the status of a Least
Dev eloped C ountry , it shall be accorded in this Ag reement and in any subsequent contractual
undertaking s thereof treatment no less fav ourable than that prov ided for the Least Dev eloped
C ontracting S tates.
 A rticle - 1 3

Non - application

Notwithstanding the measures as set out in this Ag reement its prov isions shall not apply in
relation to preferences already g ranted or to be g ranted by any Contracting S tate to other
Contracting S tates outside the framework of this Ag reement, and to third countries throug h
bilateral, plurilateral and multilateral trade ag reements and similar arrang ements.

A rticle - 1 4

Genera l E x ceptions

a) Nothing in this Ag reement shall be construed to prev ent any C ontracting S tate from
taking action and adopting measures which it considers necessary for the protection of its
national security .

b) S ubject to the requirement that such measures are not applied in a manner which would
constitute a means of arbitrary or unjustifiable discrimination between countries where
the similar conditions prev ail, or a disg uised restriction on intra - reg ional trade, nothing in
this Ag reement shall be construed to prev ent any C ontracting S tate from tak ing action
and adopting measures which it considers necessary for the protection of :

( i) public morals;

( ii) human, animal or plant life and health; and

( iii) articles of artistic, historic and archaeolog ical v alue.

A rticle - 1 5

B alance of P ay m ents Meas ures

1. Notwithstanding the prov isions of this Ag reement, any C ontracting S tate facing serious balance of
pay ments difficulties may suspend prov isionally the concessions extended under this Ag reement.

2. Any such measure tak en pursuant to parag raph 1 of this Article shall be immediately notified to
the C ommittee of E x perts.

3. T he C ommittee of E xperts shall periodically rev iew the measures tak en pursuant to parag raph 1 of
this Article.

4. Any C ontracting S tate which tak es action pursuant to parag raph I of this Article shall afford, upon
request from any other C ontracting S tate, adequate opportunities for consultations with a v iew to
preserv ing the stability of concessions under S AFT A.

5. If no satisfactory adjustment is effected between the C ontracting S tates concerned within 30 day s
of the beg inning of such consultations, to be extended by another 30 day s throug h mutual
consent, the matter may be referred to the C ommittee of E xperts.

6. Any such measures tak en pursuant to parag raph 1 of this Article shall be phased out soon after
the C ommittee of E xperts comes to the conclusion that the balance of pay ments situation of the
Contracting S tate concerned has improv ed.
 A rticle - 1 6

S afeg uard Meas ures

1. If any product, which is the subject of a concession under this Ag reement, is imported into the
territory of a C ontracting S tate in such a manner or in such quantities as to cause, or threaten to
cause, serious injury to producers of lik e or directly competitiv e products in the importing
C ontracting S tate, the importing C ontracting S tate may , pursuant to an inv estig ation by the
competent authorities of that C ontracting S tate conducted in accordance with the prov isions set
out in this Article, suspend temporarily the concessions g ranted under the prov isions of this
Ag reement. The examination of the impact on the domestic industry concerned shall include an
ev aluation of all other relev ant economic factors and indices hav ing a bearing on the state of the
domestic industry of the product and a causal relationship must be clearly established between
"serious injury " and imports from within the S AAR C reg ion, to the exclusion of all such other
factors.

2. S uch suspension shall only be for such time and to the extent as may be necessary to prev ent or
remedy such injury and in no case, will such suspension be for duration of more than 3 y ears.

3. No safeg uard measure shall be applied ag ain by a C ontracting S tate to the import of a product
which has been subject to such a measure during the period of implementation of T rade
Liberalization Prog ramme by the C ontracting S tates, for a period of time equal to that during
which such measure had been prev iously applied, prov ided that the period of non-application is at
least two y ears.

4. All inv estig ation procedures for resorting to safeg uard measures under this Article shall be
consistent with Article X IX of GAT T 1994 and W T O Ag reement on S afeg uards

5. S afeg uard action under this Article shall be non -discriminatory and applicable to the product
imported from all other Contracting S tates subject to the prov isions of parag raph 8 of this Article.

6. W hen safeg uard prov isions are used in accordance with this Article, the C ontracting S tate inv ok ing
such measures shall immediately notify the exporting C ontracting S tate( s) and the C ommittee of
E xperts.

7. In critical circumstances where delay would cause damag e which it would be difficult to repair, a
C ontracting S tate may take a prov isional safeg uard measure pursuant to a preliminary
determination that there is clear ev idence that increased imports hav e caused or are threatening
to cause serious injury . T he duration of the prov isional measure shall not exceed 200 day s, during
this period the pertinent requirements of this Article shall be met.

8. Notwithstanding any of the prov isions of this Article, safeg uard measures under this article shall
not be applied ag ainst a product orig inating in a Least Dev eloped C ontracting S tate as long as its
share of imports of the product concerned in the importing C ontracting S tate does not exceed 5
per cent, prov ided Least Dev eloped C ontracting S tates with less than 5% import share collectiv ely
account for not more than 15% of total imports of the product concerned.

A rticle - 1 7

Ma intena nce of the V a lue of Conces s ions

Any of the concessions ag reed upon under this Ag reement shall not be diminished or nullified, by
the application of any measures restricting trade by the C ontracting S tates, except under the
prov isions of other articles of this Ag reement.

A rticle - 1 8

R ules of Orig in
 R ules of Orig in shall be neg otiated by the Contracting S tates and incorporated in this Ag reement
as an integ ral part.

A rticle - 1 9

Cons ulta tions

1. E ach Contracting S tate shall accord sy mpathetic consideration to and will afford adequate
opportunity for consultations reg arding representations made by another C ontracting S tate with
respect to any matter affecting the operation of this Ag reement.

2. The Committee of E xperts may , at the request of a Contracting S tate, consult with any
Contracting S tate in respect of any matter for which it has not been possible to find a satisfactory
solution throug h consultations under parag raph 1.

A rticle - 2 0

D is pute S ettlem ent Mechanis m

1. Any dispute that may arise among the C ontracting S tates reg arding the interpretation and
application of the prov isions of this Ag reement or any instrument adopted within its framework
concerning the rig hts and oblig ations of the Contracting S tates will be amicably settled among the
parties concerned throug h a process initiated by a request for bilateral consultations.

2. Any Contracting S tate may request consultations in accordance with parag raph 1 of this Article
with other Contracting S tate in writing stating the reasons for the request including identification
of the measures at issue. All such requests should be notified to the C ommittee of E xperts,
throug h the S AAR C S ecretariat with an indication of the leg al basis for the complaint.

3. If a request for consultations is made pursuant to this Article, the C ontracting S tate to which the
request is made shall, unless otherwise mutually ag reed, reply to the request within 15 day s after
the date of its receipt and shall enter into consultations in g ood faith within a period of no more
than 30 day s after the date of receipt of the request, with a v iew to reaching a mutually
satisfactory solution.

4. If the C ontracting S tate does not respond within 15 day s after the date of receipt of the request,
or does not enter into consultations within a period of no more than 30 day s, or a period otherwise
mutually ag reed, after the date of receipt of the request, then the C ontracting S tate that
requested the holding of consultations may proceed to request the C ommittee of E xperts to settle
the dispute in accordance with work ing procedures to be drawn up by the C ommittee.

5. Consultations shall be confidential, and without prejudice to the rig hts of any Contracting S tate in
any further proceeding s.

6. If the consultations fail to settle a dispute within 30 day s after the date of receipt of the request
for consultations, to be extended by a further period of 30 day s throug h mutual consent, the
complaining Contracting S tate may request the Committee of E xperts to settle the dispute. The
complaining C ontracting S tate may request the C ommittee of E xperts to settle the dispute during
the 60-day period if the consulting C ontracting S tates jointly consider that consultations hav e
failed to settle the dispute.

7. The Committee of E xperts shall promptly inv estig ate the matter referred to it and make
recommendations on the matter within a period of 60 day s from the date of referral.

8. T he C ommittee of E x perts may request a specialist from a C ontracting S tate not party to the
dispute selected from a panel of specialists to be established by the C ommittee within one y ear
from the date of entry into force of the Ag reement for peer rev iew of the matter referred to it.
S uch rev iew shall be submitted to the Committee within a period of 30 day s from the date of
referral of the matter to the specialist.
9. Any C ontracting S tate, which is a party to the dispute, may appeal the recommendations of the
C ommittee of E xperts to the S MC . T he S MC shall rev iew the matter within the period of 60 day s
from date of submission of request for appeal. T he S MC may uphold, modify or rev erse the
recommendations of the C ommittee of E xperts.

10. W here the Committee of E xperts or S MC concludes that the measure subject to dispute is
inconsistent with any of the prov isions of this Ag reement, it shall recommend that the C ontracting
S tate concerned bring the measure into conformity with this Ag reement. In addition to its
recommendations, the C ommittee of E xperts or S MC may sug g est way s in which the C ontracting
S tate concerned could implement the recommendations.

11. The Contracting S tate to which the Committee's or S MC's recommendations are addressed shall
within 30 day s from the date of adoption of the recommendations by the C ommittee or S MC ,
inform the C ommittee of E xperts of its intentions reg arding implementation of the
recommendations. S hould the said C ontracting S tate fail to implement the recommendations
within 90 day s from the date of adoption of the recommendations by the Committee, the
C ommittee of E xperts may authorize other interested C ontracting S tates to withdraw concessions
hav ing trade effects equiv alent to those of the measure in dispute.

A rticle - 2 1

W ithdraw al

1. Any Contracting S tate may withdraw from this Ag reement at any time after its entry into force.
S uch withdrawal shall be effectiv e on expiry of six months from the date on which a written notice
thereof is receiv ed by the S ecretary -General of S AAR C , the depositary of this Ag reement. T hat
C ontracting S tate shall simultaneously inform the C ommittee of E xperts of the action it has tak en.

2. T he rig hts and oblig ations of a C ontracting S tate which has withdrawn from this Ag reement shall
cease to apply as of that effectiv e date.

3. Following the withdrawal by any Contracting S tate, the Committee shall meet within 30 day s to
consider action subsequent to withdrawal.

A rticle - 2 2

E ntry into Force

1. This Ag reement shall enter into force on 1st J anuary 2006 upon completion of formalities,
including ratification by all C ontracting S tates and issuance of a notification thereof by the S AAR C
S ecretariat. T his Ag reement shall supercede the Ag reement on S AAR C Preferential T rading
Arrang ement ( S APT A) .

2. Notwithstanding the supercession of S APT A by this Ag reement, the concessions g ranted under the
S APTA Framework shall remain av ailable to the Contracting S tates until the completion of the
Trade Liberalisation Prog ramme.

A rticle - 2 3

R es erv ations

T his Ag reement shall not be sig ned with reserv ations, nor will reserv ations be admitted at the time
of notification to the S AAR C S ecretariat of the completion of formalities.
 A rticle - 2 4

A m endm ents

This Ag reement may be amended by consensus in the S AFTA Ministerial Council. Any such amendment will
become effectiv e upon the deposit of instruments of acceptance with the S ecretary General of S AAR C by
all Contracting S tates.

A rticle - 2 5

D epos itory

T his Ag reement will be deposited with the S ecretary General of S AAR C , who will promptly furnish a
certified copy thereof to each C ontracting S tate.

I N W I T NE S S W H E R E O F the undersig ned being duly authorized thereto by their respectiv e Gov ernments
hav e sig ned this Ag reement.

D ONE in IS LAMABAD, PAK IS TAN, On This The S ixth Day Of the Year Two Thousand Four, In Nine Orig inals
In The E ng lish Lang uag e All Texts Being E qually Authentic.

M. MOR S HE D K HAN NADO R INCHHE N

Minister for Foreig n Affairs Officiating Minister for
People's R epublic of Bang ladesh Foreign Affairs
K ingdom of Bhutan

YAS HW ANT S INHA FATHULLA J AME E L

Minister of E xternal Affairs Minister of Foreig n Affairs
R epublic of India R epublic of Maldiv es

DR . BHE K H B. T HAPA K HUR S HID M. K AS UR I

Ambassador-at- larg e Minister of Foreig n Affairs
for Foreig n Affairs Islamic R epublic of Pakistan
His Majesty 's Gov ernment of Nepal

TYR ONNE FE R NANDO

Minister of Foreig n Affairs
Democratic S ocialist R epublic of S ri Lanka
1 T he
initial notification shall be made within three months from the date of coming into force of
the Ag reement and the C OE shall rev iew the notification in its first meeting and tak e
appropriate decisions.